The Orange County, Calif., fiscal disaster may have seriously damaged the 457 plan as a defined contribution plan for public employees.
Employees participating in an Orange County 457 plan apparently have lost 10% of the assets in the plan, and may lose as much as 22%. They have stopped contributing to the plan, causing it severe cash flow problems, said some labor leaders.
The losses have brought home to many public employees the flaws in the 457 plan, where all of the assets belong to the employer until the employee retires.
Defined contribution plans such as 457s are critical to many governments; they usually cost less to administer than defined benefit plans.
Employee concerns about 457 plans arose after Orange County officials seized 10% of the assets in an $80 million county-managed 457 plan. But the percentage loss could rise to at least 22% for all employees in the plan depending on the outcome of bankruptcy litigation, county labor leaders say.
A county official declined to comment on how many employees have stopped contributing. However, a source familiar with the situation said the plan has no net incoming cash flow now.
Word of the problems at the Orange County 457 plan has traveled as far as Miami and begun raising questions among pension officials about the obligations of employers to tell employees about the riskiness of investments. Assets of the Orange County Deferred Compensation Fund were managed by Robert Citron, former Orange County treasurer.
Mr. Citron resigned after he couldn't make margin calls on the county's highly leveraged, $7.4 billion investment pool. County officials filed for Chapter 9 bankruptcy protection in December for the county and its investment pool.
"I have received 50 telephone calls from participants in the Los Angeles County deferred compensation plan. And what they are saying is that they are worried that this could happen in Los Angeles County," said Robert Hermann, a trustee for the $16.5 billion Los Angeles County Employees' Retirement Association. The Los Angeles County 457 plan has $1 billion in assets.
Firefighters in Los Angeles County with the same concerns have been calling Dallas Jones, president of the Los Angeles and Orange Counties Firefighters Local 1014.
Mr. Jones said his association is recommending employees stop contributing to the plan.
"I am concerned because we also participate in a 457 plan," said Russell Bjorkman, a trustee for the city of Miami Police and Fire pension plan.
In addition, Orange County officials have stopped permitting lump-sum payments from the 457 plan for employees about to retire. The county also is prohibiting employees from transferring account balances out of the county plan.
Labor leaders from inside and outside California have been asking about bankruptcy problems in Orange County, said Tobye Lovelace, assistant director of insurance services for the Orange County Employees' Association.
The county claims the authority to impose the losses to the 457 plan because under Internal Revenue Service rules, money contributed to a 457 plan belongs to the sponsoring agency until the participant retires. While 457 plans used by local governments are similar in some respects to corporate 401(k) plans, 457 plans lack many of the protections that 401(k)s have.
All the money contributed to the Orange County 457 plan came from employee paychecks; the county doesn't match contributions.
"Even though that money technically is the county's money, employees view it as their money. They feel angry and betrayed by the county in general. They are pretty discouraged," said Ms. Lovelace.
Messrs. Jones and Hermann want to meet with congressional representatives to ask for new protections for 457 plan participants. Mr. Hermann also is seeking a meeting with Olena Berg, assistant secretary of labor.
"I suggest the (Securities and Exchange Commission) be called in to look at the way (Orange County) communicated with the participants of the fund because I don't believe for one minute that they did a prospectus showing the risk on the short-term county general fund, saying they were using leverage and derivatives to manage that fund," said Mr. Hermann. Besides using leverage, Mr. Citron also used derivative securities.
"They (county employees) were not really savvy investors. I don't believe they were really knowledgeable about the vehicles the treasurer was using," said Ms. Lovelace.
To minimize employee losses from the bankruptcy, a coalition of county labor associations hired the law firm of Pachulski, Stang, Ziehl & Young, Los Angeles.
Orange County employees did have an alternate 457 plan with the National Association of County Organizations. Others chose the county plan, Ms. Lovelace said, because they had "faith" in Mr. Citron.